When the shocks are such that the nominal interest rate is constrained by the zero bound, anticipated inflation is far from neutral, with output increasing if inflation is anticipated to rise. Moreover, contrary to the common belief that inflation is less effective at stimulating output when inflation becomes more and more anticipated, the benefits of higher anticipated inflation can be extremely large at the zero bound.
The results presented here suggest that it may be beneficial to let the near-term inflation target move over time in a way that depends on the state of the economy. In particular, our analysis reveals that output and inflation can be stabilized more effectively by raising targeted inflation in the medium run, i.e., in a relatively short period after the shock which brought the economy to the zero bound has subsided. However, as in conventional analyses, once the economy has exited from the zero lower bound, there is no meaningful gain from raising the long-run inflation target.
Let me see if I have this correct: Expectations matter. And anticipation of higher inflation tomorrow could push consumer and business to spend more today. It also aids deleveraging since debt contracts are typically spelled out in nominal terms. The 2% inflation target should be not a ceiling. Letting it rise as part of returning nominal GDP closer to its pre-crisis trajectory would not loosen long-term inflation expectations as long as the endgame was clearly communicated. Again, inflation is everywhere and always a monetary phenomenon but it isn’t everywhere and always a problem.